Sleep walking into debt-slavery

This again from Daily Reckoning (click here):

Sleep walking into debt-slavery

Australia now has one of the highest rates of household debt in the western world. In total, households now carry $1.2 trillion of debt, which is a staggering 112% of GDP. 

Like a nation of zombies, we have sleep-walked up to ears into debt slavery.

Unfortunately it is a world where debt is the only way most will achieve property "ownership". Of course when you take on debt to buy a house, really it is the lender that achieves this property ownership. The lender becomes your landlord, and the mortgagee really just becomes the tenant.

You can stomach this in a world where property prices go up. In fact it has been so long since Australian prices did anything else that it is hard for most to even entertain them going down. Even though last year property prices fell significantly in every other major economy.

Either way does that mean it's ok for us to get up to our eyeballs in debt? $1.2 trillion dollars for a country with a population of 21 million equates to $57,000 per person.

Or to put it another way, this debt translates to an average of $141,000 for each of the nation's 8.5 million households.

Even in a world where property prices always go up, this is a huge burden on society as a whole. The average household income (net of tax) is around $85,000 a year. Using all of this money it would take about twenty months to pay off all the average household debt.

Saul Eslake, ANZ's former chief economist, made the point that the important statistic to look at is not household debt to GDP. Instead he suggests monitoring the debt to asset ratio. At a household level this would be the ratio of the mortgage value to the property value. However, this only holds true until property prices fall. With a falling property value the ratio of debt to equity can rise quickly.

Or worse still, the property can become worth less than the debt. This is negative equity, and as many US home-owners will tell you, it's not much fun. Unless you want to sell your property and make a loss, you are stuck where you are, paying interest on a loan which is worth more than your home.

The other statistic Saul Eslake pointed out was the size of the dept payment as a percentage of disposable income. Banks often lend out amounts that will require repayments equal to 30% of customer's disposable income. This represents a massive amount of someone's hard-earned, but of course banks are happy to lend it, if you are able to pay it.

When lenders sell mortgages, they are like farmers planting fields of crops. They'll come and harvest you regularly. As long as they can harvest what they want without killing off the crop, then they are happy.

Selling debt which is going to take nearly a third of someone's disposable income for coming decades drastically reduces what that person can then do. They may not be able to afford further education, or to set up a business. It siphons a great deal away from areas of potential economic growth. It is plain irresponsible. It also assumes that they are going to continue to have a job, which is still far from guaranteed.

With this sort of lending practice, it's sadly not surprising to hear that Commonwealth and its mortgage fund Colonial First State are in a spot of bother. They were caught out by a spike in lending losses, so prevented withdrawals from its $850 million mortgage fund.

Fitch ratings agencies reckon that Australian banks are in danger of more loan defaults now that interest rates are on the rise and the government unwinds economic stimulus. It also said that the stress will show in small to medium sized enterprises. This translates to bad loans accumulating on Aussie bank balance sheets.

Selling debt is big business. It's all about getting the kids hooked. A good friend of mine told me this week that he was staggered at how much the bank were prepared to lend him and his girlfriend for a home, given their modest combined income. This will be his first trip to mortgage-town, and I fear he is too blinkered by the big bucks to think about the reality of the repayments. Particularly during a time of rising interest rates.